FDI Real Estate

[br] FDI in Real Estate: an introduction

[br] FDI in Real Estate: an introduction

India has been one of the most attractive investment destinations as they yield huge dividends and are exposed to much less risk. This has been the consensus because of two reasons: first, India is an emerging economy and second, the economy is a stable one with growth prospects backed by sound fundamentals. It is estimated that 70 percent of foreign investors are reaping profits from investment in India and another 12 percent are earning profits that are enough to break even. So far, so good. However, it is a well known fact that spiraling property prices caused by a deluge of speculative foreign investment in commercial real estate ignited the 1990 East Asia crash. The apprehension of its imitation in India’s case has made the government go slow. However the catch is not so daunting as a recent report by JP Morgan says that property prices in India are at risk, but not yet in bubble zone. According to Assocham, FDI’s share in investment in real estate can go up from 16 percent in n2005-06 to 26 percent in 2007. In this study we analyze the plausible causes and effects of allowing FDI in Indian real estate industry.

Press Note No.2 (2005): Allowing FDI

Until 2004, only NRIs (Non-Resident Indians) and PIOs (Person of Indian Origin) were permitted to invest in the housing and the real estate sectors. Foreign investors other than NRIs were allowed to invest only in development of integrated townships and settlements either through a wholly owned subsidiary or through a joint venture company in India along with a local partner. FDI up to 100% was already allowed under the automatic route in the Hotel and tourism sector vide Press Note 4 (2001 Series) and in the Hospital sector vide Press Note 2 (2000 Series). Special Economic Zones are separately regulated under the Special Economic Zone Act, 2005. However, the guidelines prescribed vide Press Note 2 (2005) series dated 2.3.2005 issued by Ministry of Commerce & Industry, have further opened out FDI up to 100 percent in townships, housing, built-up infrastructure and construction-development projects(which would include, but not be restricted to, housing, commercial premises, hotels, resorts, hospitals, educational institutions, recreational facilities, city and regional level infrastructure facilities, such as roads and bridges, transit systems et al), subject to the following guidelines: [br]

The minimum area to be developed under each project would be as follows:

• In case of development of serviced housing plots, a minimum land area of 10 hectares.
• In case of construction development projects, a minimum built-up area of 50,000 sq.mts.
• In case of a combination of the above two projects, any one of the above two conditions would suffice. 2. The minimum capitalization norm shall be US$ 10 million for a wholly owned subsidiary and US$ 5 million for joint ventures with Indian partner/s. The funds would have to be brought in within six months of commencement of business of the company. 3 Original investment cannot be repatriated before a period of three years from completion of minimum capitalization. However, the investor may be permitted to exit earlier with prior approval of the government through the FIPB. 4 Development of at least 50% of the integrated project within a period of five years from the date of obtaining all statutory clearances, has to be completed. The investor would not be permitted to sell underdeveloped plots (underdeveloped connotes, where roads, water supply, street lighting, drainage, sewerage and other conveniences as applicable under prescribed regulations, have not been made available). The investor must provide this infrastructure and obtain the completion certificate from the concerned local body/service agency before being allowed to dispose of the serviced housing plots. 5 The project shall conform to the norms and standards, including land use requirements and provision of community amenities and common facilities as laid down in the applicable building control regulations, by-laws, rules and other regulations of the State Govt./Municipal/Local Body concerned. 6 The investor shall be responsible for obtaining all necessary approvals, including those of the building/ layout plans, developing internal and peripheral areas and other infrastructure facilities, payment of development, external development and other charges and complying with all other requirements as prescribed under applicable rules/bye-laws/regulations of the State Government/Municipal Body/ Local Body concerned. 7 The State Government/ Municipal/ Local Body concerned, which approves the building/ development plans, will monitor the developer’s compliance to the above conditions. It was clarified in Press Note 2 (2006 Series) that the provisions of Press Note 2 (2005 Series) shall not apply to Special Economic Zones; neither shall it apply to establishment and operation of hotels and hospitals which shall continue to be governed by Press Note 4 (2001 Series) and Press Note 2 (2000 Series) respectively.

[br] Need of FDI in real estate

According to the JP Morgan Research Report, the real estate industry is expected to grow from the present size of $50 billion to a magnificent size of $90 billion by 2011-12. The residential sector is poised to grow at an eye-catching rate over the next 5-10 years. Riding on a growing popularity on the stock-market front, real estate has achieved a market capitalisation of Rs. 2,00,000 crores. This amplification has been directed by improving demographics, a healthy macro environment, growth of the service industry, and notification of city development plans, underscores the report. Unavailability of skilled labour force, a crucial factor in accomplishing projects in time has been accepted as one of the major challenges.

According to the RBI’s First Quarter Review of Annual Monetary Policy for the Year 2007-08, growth in housing and real estate loans were respectively 24.6 percent and 69.8 percent respectively in 2006-07. RBI has also increased the risk weightage of lending to the real estate. The norms on FDI in real estate are strict, thus leading to multiple chances of ineligibility. So real estate investors have taken the FII route to meet the needs for funds. But it must be kept in mind that FIIs turning net-sellers have led to most of our stock market crashes. Thus the proposal to allow FDI in realty through the FII route with a lock-in period is welcome. Moreover the FEMA (Foreign Exchange Management Act) must be amended before the status of portfolio investment can be given to FDI in real estate.

Beneficial effects of an Indian-Foreign real estate

Real estate employs a huge proportion of the workforce next to only the IT sector in India. The real estate industry’s direct employment has been estimated to be around 500,000 people within three years. In addition there are thousands of casual workers who find job opportunities in unorganised real estate market. There are a number of positions in the real estate business which can be handled well by unskilled or semi-skilled people. So the inflow of FDI in the organised real estate market is expected to generate more employment opportunities in the organised sector and thus ameliorate the general standard of living.

The government’s plan to regulate ECB(External Commercial Borrowing) for integrated townships has narrowed down the flow of external debt to the real estate sector. ECB has come in as ‘disguised equity’ and has raised the money supply thus pushing the inflation rate. FDI is surely a better option as it will neither make the real estate sector over-heated and will also be a long term investment.

FDI brings professional real estate experts and ensures the smooth flow of foreign technology and fund management
and will reduce wastage. This added benefits are essential for the nascent Indian real estate to take off.

Conclusion

The introduction of FDI in real estate will exert pressure on local investors and developers besides resulting in appreciation of rupee. This will compel investors and developers to act competitively. Regarding the concern for rupee, it is needless to say that this will make Indian exports more competitive. Thus an unbiased peruse of permitting FDI has advantages that more than outweigh the disadvantages.